Investigate the Long-Run Trade-Off between Inflation and Unemployment in Egypt

Mahmoud Abdelaziz Touny

Abstract

The main objective of this study is to investigate the long run trade-off between unemployment and inflation in Egypt through the period (1974-2011) using Johansen-Juselius (1990) cointegration test and Vector Error Correction Model (VECM). Results of ADF test indicate that both series are cointegrated of order one I(1). Add to that, the outcomes of cointegration analysis confirm a positive relationship between changes in inflation rate and unemployment gap in the long run, which is consistent with “Locus Critique” where a policy of inflation would fail to reduce the unemployment rate in the long run, because workers would eventually adjust their expectations of inflation. Results of the ECM have illustrated that the error-correction term is negative and significant with an adjustment coefficient of - 0.280, pointing out that changes in inflation rate adjust to its equilibrium level in the long run with 28% of the adjustment taking place within the first year.

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